Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x            QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2013

or

o               TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from              to             

Commission File Number: 001-34973

Anacor Pharmaceuticals, Inc.

(Exact Name of Registrant as Specified in Its Charter)

1020 East Meadow Circle

Palo Alto, California 94303-4230

(Address of Principal Executive Offices) (Zip Code)

(650) 543-7500

(Registrant’s Telephone Number, Including Area Code)

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes x  No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes x  No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o  No x

As of August 2, 2013, there were 40,558,437 shares of the registrant’s common stock outstanding.

Table of Contents

Table of Contents

Anacor Pharmaceuticals, Inc.

Form 10-Q

Index

2

Table of Contents

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

Anacor Pharmaceuticals, Inc.

Condensed Balance Sheets

(In Thousands)

(1) Derived from the audited financial statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2012.

See accompanying notes.

3

Table of Contents

Anacor Pharmaceuticals, Inc.

Condensed Statements of Operations

(In Thousands, Except Share and Per Share Data)

See accompanying notes.

4

Table of Contents

Anacor Pharmaceuticals, Inc.

Condensed Statements of Comprehensive Loss

(In Thousands)

See accompanying notes.

5

Table of Contents

Anacor Pharmaceuticals, Inc.

Condensed Statements of Cash Flows

(In Thousands)

See accompanying notes.

6

Table of Contents

Anacor Pharmaceuticals, Inc.

Notes to Condensed Financial Statements

(unaudited)

1. The Company

Nature of Operation

Anacor Pharmaceuticals, Inc. (the Company) is a biopharmaceutical company focused on discovering, developing and commercializing novel small-molecule therapeutics derived from its boron chemistry platform. The Company has discovered, synthesized and developed eight molecules that are currently in development. Its two lead product candidates are topically administered dermatologic compounds—tavaborole, formerly known as AN2690, an antifungal for the treatment of onychomycosis; and AN2728, an anti-inflammatory for the treatment of atopic dermatitis and psoriasis. In addition to its two lead programs, the Company has three other wholly-owned clinical product candidates—AN2718 and AN2898, which are backup compounds to tavaborole and AN2728, respectively, and AN3365 (formerly referred to as GSK2251052, or GSK ‘052), an antibiotic for the treatment of infections caused by Gram-negative bacteria, which previously was licensed to GlaxoSmithKline LLC (GSK). In October 2012, GSK advised the Company that it had discontinued further development of AN3365 and all rights to this compound reverted to the Company. The Company is considering its options for further development, if any, of AN3365. The Company has discovered three other compounds that it has out-licensed for further development—two are licensed to Eli Lilly and Company (Lilly) for the treatment of animal health indications, and the third compound, AN5568, also referred to as SCYX-7158, is licensed to Drugs for Neglected Diseases initiative for the treatment of human African trypanosomiasis (HAT, or sleeping sickness). The Company also has a pipeline of other internally discovered topical and systemic boron-based compounds in development.

Need to Raise Additional Capital

Since inception, the Company has generated an accumulated deficit as of June 30, 2013 of approximately $244.4 million, and will require substantial additional capital to fund research and development activities, including clinical trials for its development programs and preclinical activities for its product candidates. The Company believes that its existing capital resources, including the available funds under its expanded debt facility, will be sufficient to meet its anticipated operating requirements until mid-2014. While management believes that the Company currently has sufficient resources, including the available funds under its expanded debt facility, to fund its operations until mid-2014, additional capital will be needed to complete the development and potential commercialization of tavaborole, fund its other research and development activities and meet the operating requirements of the Company beyond mid-2014. The Company expects to finance its future cash needs through public or private equity offerings, debt financings or a possible license, collaboration or other similar arrangement with respect to commercialization rights to tavaborole or any of the Company’s other product candidates, or a combination of these sources. If adequate funds are not available on acceptable terms when needed, the Company could be required to significantly reduce operating expenses and delay, reduce the scope of or eliminate some of its development programs or its commercialization efforts, enter into a collaboration or other similar arrangement with respect to commercialization rights to tavaborole or any of the Company’s other product candidates on terms that are not advantageous to the Company, out-license intellectual property rights to tavaborole or the Company’s other product candidates and sell unsecured assets, or a combination of the above, which may have a material adverse effect on the Company’s business, results of operations, financial condition and/or its ability to make its scheduled debt payments on a timely basis or at all.

The accompanying financial statements have been prepared assuming that the Company will continue as a going concern, which considers the realization of assets and the settlement of liabilities and commitments in the normal course of business. The financial statements for the three and six months ended June 30, 2013 do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or on the amounts and classification of liabilities that may result from uncertainty related to the Company’s ability to continue as a going concern.

2. Summary of Significant Accounting Policies

Interim Financial Information

The accompanying condensed financial statements as of June 30, 2013 and for the three and six months ended June 30, 2013 and 2012 are unaudited. The unaudited interim condensed financial statements have been prepared on the same basis as the annual financial statements and, in the opinion of management, reflect all adjustments, which include only normal recurring adjustments, necessary to state fairly the results included in the condensed financial statements for the interim periods presented. The December 31, 2012 balance sheet is derived from the audited financial statements for the year ended December 31, 2012 but does not include all the disclosures necessary for audited financial statements. The financial data and other information disclosed in these notes to the condensed financial statements related to the three and six month periods are unaudited. The results for the three and six months ended June 30, 2013 are not necessarily indicative of results to be expected for the year ending December 31, 2013 or for any other interim period or for any future year.

7

Table of Contents

The condensed financial statements follow the requirements of the Securities and Exchange Commission (SEC) for interim reporting. As permitted under those rules, certain footnotes or other financial information that are normally required by U.S. generally accepted accounting principles (GAAP) for annual periods can be condensed or omitted. For more complete financial information, these condensed financial statements, and the notes hereto, should be read in conjunction with the audited financial statements for the year ended December 31, 2012 included in the Company’s Annual Report on Form 10-K filed with the SEC on March 18, 2013.

The Company’s significant accounting policies are more fully described in Note 2 of the notes to the financial statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2012.

Use of Estimates

The preparation of the condensed financial statements in accordance with U.S. GAAP requires the Company to make estimates and judgments in certain circumstances that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. In preparing these condensed financial statements, management has made its best estimates and judgments of certain amounts included in the condensed financial statements, giving due consideration to materiality. On an ongoing basis, the Company evaluates its estimates, including those related to revenue recognition, fair values of financial instruments in which it invests, income taxes, preclinical study and clinical trial accruals, accrued compensation and other contingencies. Management bases its estimates on historical experience or on various other assumptions that it believes to be reasonable under the circumstances. Actual results could differ from these estimates.

Cash, Cash Equivalents, Short-Term Investments and Restricted Investments

The Company considers all highly liquid investments with a maturity of three months or less at the time of purchase to be cash and cash equivalents. Unless restricted, investments with a maturity date of more than three months, but less than twelve months, from the date of purchase, are considered short-term investments and are classified as current assets. The Company’s short-term investments in marketable securities are classified as available for sale (see Note 3). Securities available for sale are carried at estimated fair value, with unrealized gains and losses reported as part of accumulated other comprehensive income or loss, a separate component of stockholders’ equity. The Company has estimated the fair value amounts by using available market information. The cost of available for sale securities sold is based on the specific-identification method. Restricted investments are classified as a current or noncurrent asset based upon the terms of the relevant contract and, in some cases, management’s estimate of when the restrictions will be eliminated.

Fair Value of Financial Instruments

The carrying amounts of certain of the Company’s financial instruments, including cash and cash equivalents, short-term investments, restricted investments, contract receivables and accounts payable, approximate their fair value due to their short maturities. Based on the borrowing rates available to the Company for loans with similar terms and average maturities, the carrying value of the Company’s long-term notes payable approximate their fair values at June 30, 2013 and December 31, 2012.

Fair value is considered to be the price at which an asset could be exchanged or a liability transferred (an exit price) in an orderly transaction between knowledgeable, willing parties in the principal or most advantageous market for the asset or liability. Where available, fair value is based on or derived from observable market prices or other observable inputs. Where observable prices or inputs are not available, valuation models are applied. These valuation techniques involve management estimation and judgment, the degree of which is dependent on the price transparency for the instruments or market and the instruments’ complexity.

Concentration of Credit Risk

Financial instruments that potentially subject the Company to a concentration of credit risk consist of cash, cash equivalents, short-term investments and restricted investments. Substantially all the Company’s cash, cash equivalents and restricted investments are held by two financial institutions that management believes are of high credit quality. Such deposits may, at times, exceed federally insured limits. At June 30, 2013 and December 31, 2012, approximately 78% and 85%, respectively, of the cash and cash equivalents were held in a money market fund invested in U.S. Treasuries, securities guaranteed as to principal and interest by the U.S. government and repurchase agreements in respect of such securities. The Company’s short-term investments and restricted investments at June 30, 2013 and December 31, 2012 are primarily held in securities guaranteed as to principal and interest by the U.S. government. The Company has not experienced any losses on its deposits of cash, cash equivalents, short-term investments and restricted investments and management believes that its guidelines for investment of its excess cash maintain safety and liquidity through diversification and investment maturity.

8

Table of Contents

Customer Concentration

The Company’s revenues consist primarily of contract revenues from collaboration agreements with Lilly and GSK and the research agreement with the Bill and Melinda Gates Foundation (Gates Foundation) (See Note 6). Collaborators have accounted for significant revenues in the past and may not provide contract revenues in the future under existing agreements and/or new collaboration agreements, which may have a material effect on the Company’s operating results. For the three and six months ended June 30, 2012, the Company also recognized contract revenues from its collaboration with Medicis Pharmaceutical Corporation (Medicis), which was acquired by Valeant Pharmaceuticals International, Inc. (Valeant) in December 2012, and from a subcontract with a research institution, each of which accounted for 10% or more of its total revenues during those periods.

Contract revenues from the Gates Foundation, collaborators and research institutions that accounted for 10% or more of total revenues were as follows:

*     less than 10% of total revenue

Contract Receivables

At June 30, 2013 and December 31, 2012, the contract receivable included $0.8 million in research funding due from Lilly (see Note 6) as of both dates, $0.6 million and $0.3 million due from GSK (see Note 6), respectively, and $0.1 million due from other agreements as of both dates.

The Company’s contract receivable is primarily composed of amounts due under collaboration and research agreements and the Company believes that the credit risks associated with these collaborators are not significant. During the three and six months ended June 30, 2013, the Company has not written-off any contract receivable and, accordingly, does not have an allowance for doubtful accounts as of June 30, 2013.

Revenue Recognition

The Company’s contract revenues are generated primarily through research and development collaboration agreements, which typically may include non-refundable, non-creditable upfront fees, funding for research and development efforts, payments for achievement of specified development, regulatory and sales goals and royalties on product sales of licensed products.

The Company recognizes revenue when persuasive evidence of an arrangement exists; transfer of technology has been completed, services are performed or products have been delivered; the fee is fixed or determinable; and collection is reasonably assured.

For arrangements with multiple deliverables, the Company evaluates each deliverable to determine whether it qualifies as a separate unit of accounting. This determination is generally based on whether the deliverable has stand-alone value to the customer. The selling price used for each unit of accounting will be based on vendor-specific objective evidence, if available, third-party evidence if vendor-specific objective evidence is not available or estimated selling price if neither vendor-specific nor third-party evidence is available. Management may be required to exercise considerable judgment in determining whether a deliverable is a separate unit of accounting and in estimating the selling prices of identified units of accounting for new agreements. Where multiple deliverables are combined as a single unit of accounting, revenues are recognized based on the performance requirements of the related agreement.

9

Table of Contents

Upfront payments for licensing the Company’s intellectual property are evaluated to determine if the licensee can obtain stand-alone value from the license separate from the value of the research and development services to be provided by the Company. Typically, the Company has determined that the licenses it has granted to collaborators do not have stand-alone value separate from the value of the research and development services provided. As such, upfront payments are recorded as deferred revenue in the condensed balance sheets and are recognized as contract revenue ratably over the contractual or estimated performance period that is consistent with the term of the research and development obligations contained in the research and development collaboration agreement. When stand-alone value is identified, the related consideration is recorded as revenue in the period in which the license or other intellectual property rights are issued.

Some arrangements involving the licensing of the Company’s intellectual property, the provision of research and development services or both may also include exclusivity clauses whereby the Company agrees that, for a specified period of time, it will not conduct further research on licensed compounds or on compounds that would compete with licensed compounds or that it will do so only on a limited basis. Such provisions may also restrict the future development or commercialization of such compounds. The Company does not treat such exclusivity clauses as a separate element within an arrangement and any upfront payments received related to the exclusivity clause would be allocated to the identified elements in the arrangement and recognized as described in the preceding paragraph.

Payments resulting from the Company’s efforts under research and development agreements or government grants are recognized as the activities are performed and are presented on a gross basis. Revenue is recorded gross because the Company acts as a principal, with discretion to choose suppliers, bears credit risk and performs part of the services. The costs associated with these activities are reflected as a component of research and development expense in the condensed statements of operations and the revenues recognized from such activities approximate these costs.

For certain contingent payments under research or development arrangements, the Company recognizes revenue using the milestone method. Under the milestone method, a payment that is contingent upon the achievement of a substantive milestone is recognized in its entirety in the period in which the milestone is achieved. A milestone is an event (i) that can be achieved based in whole or in part on either the Company’s performance or on the occurrence of a specific outcome resulting from the Company’s performance, (ii) for which there is substantive uncertainty at the date the arrangement is entered into that the event will be achieved and (iii) that would result in additional payments being due to the Company. The determination that a milestone is substantive is judgmental and is made at the inception of the arrangement. Milestones are considered substantive when the consideration earned from the achievement of the milestone is (i) commensurate with either the Company’s performance to achieve the milestone or the enhancement of value of the item delivered as a result of a specific outcome resulting from the Company’s performance to achieve the milestone, (ii) relates solely to past performance and (iii) is reasonable relative to all deliverables and payment terms in the arrangement. In making the determination as to whether a milestone is substantive or not, management of the Company considers all facts and circumstances relevant to the arrangement, including factors such as the scientific, regulatory, commercial and other risks that must be overcome to achieve the respective milestone, the level of effort and investment required to achieve the respective milestone and whether any portion of the milestone consideration is related to future performance or deliverables.

Other contingent payments received for which payment is either contingent solely upon the passage of time or the results of a collaborative partner’s performance (bonus payments) are not accounted for using the milestone method. Such bonus payments will be recognized as revenue when earned and when collectibility is reasonably assured.

Royalties based on reported sales of licensed products will be recognized based on contract terms when reported sales are reliably measurable and collectibility is reasonably assured. To date, none of the Company’s products have been approved and therefore the Company has not earned any royalty revenue from product sales.

Preclinical Study and Clinical Trial Accruals and Deferred Advance Payments

The Company estimates preclinical study and clinical trial expenses based on the services performed pursuant to contracts with research institutions and clinical research organizations that conduct these activities on its behalf. In recording service fees, the Company estimates the time period over which the related services will be performed and compares the level of effort expended through the end of each period to the cumulative expenses recorded and payments made for such services and, as appropriate, accrues additional service fees or defers any non-refundable advance payments until the related services are performed. If the actual timing of the performance of services or the level of effort varies from the estimate, the Company will adjust its accrual or deferred advance payment accordingly. If the Company later determines that it no longer expects the services associated with a deferred non-refundable advance payment to be rendered, the deferred advance payment will be charged to expense in the period that such determination is made.

10

Table of Contents

Stock-Based Compensation

Employee stock-based compensation cost is measured at the grant date, based on the fair value of the award, and is recognized as an expense over the employee’s requisite service period (generally the vesting period). Stock option awards granted to the Company’s nonemployee directors for their board-related services are included in employee stock-based compensation in accordance with current accounting standards. The Company uses the Black-Scholes option-pricing model to estimate the fair value of its stock-based awards and uses the straight-line (single-option) method for expense attribution. The Company estimates forfeitures and recognizes expense only for those shares expected to vest.

The Company accounts for equity instruments issued to nonemployees based on their fair values on the measurement dates using the Black-Scholes option-pricing model. The fair values of the options granted to nonemployees are remeasured as they vest. As a result, the noncash charge to operations for nonemployee options that vest in any given reporting period is affected by changes in the fair value of the Company’s common stock during that period.

Net Loss per Common Share

Basic net loss per common share is calculated by dividing the net loss by the weighted-average number of common shares outstanding during the period, without consideration for common stock equivalents. Diluted net loss per share includes the effect of all potential common stock equivalents outstanding for the period, determined using the treasury-stock method. For purposes of this calculation, potentially dilutive securities consisting of stock options and warrants are considered to be common stock equivalents and, for each period presented in these financial statements, are excluded in the calculation of diluted net loss per share because their effect would be antidilutive. The following table presents the calculation of basic and diluted net loss per share of common stock (in thousands, except share and per share data):

Recent Accounting Pronouncements

In February 2013, a new accounting standard was issued that amended existing guidance to improve the reporting of reclassifications out of accumulated other comprehensive income. The new standard requires the disclosure of significant amounts reclassified from each component of accumulated other comprehensive income and the income statement line items affected by the reclassification. The standard is effective prospectively for interim and annual periods beginning after December 15, 2012. The Company adopted this guidance as of January 1, 2013 and its adoption did not have an effect on the Company’s financial statements.

In July 2013, a new accounting standard was issued that requires the netting of unrecognized tax benefits against a deferred tax asset for a net operating loss carryforward or other carryforward that would apply in settlement of the uncertain tax positions. Under the new standard, unrecognized tax benefits will be netted against all available same-jurisdiction net operating loss or other tax carryforwards that would be utilized, rather than only against carryforwards that are created by the unrecognized tax benefits. The new standard is effective for fiscal years, and interim periods within those years, beginning after December 15, 2013. The Company has not yet evaluated the impact of the new standard on its condensed financial statements.

11

Table of Contents

3. Marketable Securities and Fair Value Measurements

The following tables summarize the estimated fair values of the Company’s financial assets measured on a recurring basis as of the dates indicated below. Such financial assets are comprised solely of available for sale securities with remaining contractual maturities of less than one year.

The input levels used in the fair value measurements, the amortized cost and fair value of marketable securities, with gross unrealized gains and losses, were as follows (in thousands and unaudited):

All marketable securities held at June 30, 2013 and December 31, 2012 had original maturities at the date of purchase of less than one year. Management of the Company does not intend to sell these securities and believes that it will be able to hold these securities to maturity and recover their amortized cost bases. There were no realized gains or losses recognized from the sale of marketable securities for the three and six months ended June 30, 2013 and 2012.

In measuring fair value, the Company evaluates valuation techniques such as the market approach, the income approach and the cost approach. A three-level valuation hierarchy, which prioritizes the inputs to valuation techniques that are used to measure fair value, is based upon whether such inputs are observable or unobservable.

Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect market assumptions made by the reporting entity. The three-level hierarchy for the inputs to valuation techniques is briefly summarized as follows:

·                  Level 1—Observable inputs such as quoted prices (unadjusted) for identical instruments in active markets;

·                  Level 2—Observable inputs such as quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, or model-derived valuations whose significant inputs are observable; and

·                  Level 3—Unobservable inputs that reflect the reporting entity’s own assumptions.

During the three and six months ended June 30, 2013 and the year ended December 31, 2012, there were no transfers between Level 1 and Level 2 financial assets. At June 30, 2013 and December 31, 2012, the Company utilized the market approach to measure fair value for its marketable securities. The market approach uses prices and other relevant information generated by market transactions involving identical or comparable instruments. The fair values of the money market fund (Level 1) were based on quoted market prices in an active market. U.S. treasury securities and federal agency securities (Level 2) are valued using third-party pricing sources that apply applicable inputs and other relevant data, such as quoted prices, interest rates and yield curves, into their models to estimate fair value.

12

Table of Contents

4. Commitments and Contingencies

Operating Leases

On May 15, 2013, the Company amended the original lease agreement for its 36,960 square-foot building consisting of office and laboratory space located in Palo Alto, California, its corporate headquarters. Under the terms of the lease amendment, the landlord was granted a right to terminate the lease as of a date prior to March 31, 2018 with the following terms:  (i) landlord may exercise its right by written notice (Early Termination Notice) to the Company; (ii) the Early Termination Notice shall specify a lease term expiration date no earlier than twelve (12) months from the delivery of the Early Termination Notice to the Company; and (iii) the Early Termination Notice may be delivered on or after June 30, 2015. The earliest effective date for the expiration of the lease under the terms of the lease amendment is June 30, 2016. All other terms of the original lease agreement remain unchanged under the lease amendment.

As consideration for entering into the lease amendment, the Company received a rent credit of $0.7 million, which will be applied to the monthly base rent under the original lease commencing June 1, 2013 and continuing for each successive month thereafter until the full amount of the rent credit has been applied. At any time, the landlord may elect to make a lump sum payment of any remaining balance of the unapplied rent credit, at which time the base rent monthly payments under the original lease will resume. In addition to the $0.4 million allowance for tenant improvements provided by the landlord under the original lease, the $0.7 million rent credit has been included in deferred rent and is being amortized over the remaining term of the lease, on a straight-line basis, as a reduction to rent expense. As of June 30, 2013, $1.0 million has been included as deferred rent in the condensed balance sheets related to this lease. The Company will continue to provide a security deposit in the amount of $0.1 million in the form of a standing letter of credit and continues to be responsible for certain operating expenses.

Indemnifications

The Company, as permitted under Delaware law and in accordance with its bylaws, indemnifies its officers and directors for certain events or occurrences, subject to certain limits, while the officer or director is or was serving at the Company’s request in such capacity. The term of the indemnification period is equal to the officer’s or director’s lifetime.

The maximum amount of potential future indemnification is unlimited; however, the Company currently holds director and officer liability insurance. This insurance limits the Company’s exposure and may enable it to recover a portion of any future amounts paid. The Company believes that the fair value of these indemnification obligations is minimal. Accordingly, the Company has not recognized any liabilities relating to these obligations for any period presented.

The Company has certain agreements with contract research organizations and other parties with which it does business that contain indemnification provisions pursuant to which the Company typically agrees to indemnify the party against certain types of third-party claims. The Company accrues for known indemnification issues when a loss is probable and can be reasonably estimated. The Company would also accrue for estimated incurred but unidentified indemnification issues based on historical activity. There were no accruals for or expenses related to indemnification issues for any period presented.

Legal Proceedings

On October 24, 2012, the Company provided notice to Valeant, successor in interest to Dow Pharmaceutical Sciences, Inc. (DPS), seeking to commence arbitration with JAMS of a breach of contract dispute under a master services agreement dated March 26, 2004 between the Company and DPS related to certain development services provided by DPS in connection with the Company’s efforts to develop its topical antifungal product candidate for the treatment of onychomycosis. The Company’s currently pending assertions include breach of contract, breach of implied covenant of good faith and fair dealing, misappropriation of trade secrets and unfair competition. The Company is seeking injunctive relief and damages of at least $215.0 million. The final hearing is scheduled for September 2013. On May 28, 2013, Valeant received a Complete Response Letter from the United States Food and Drug Administration (FDA) related to its New Drug Application (NDA) for efinaconazole, its topical product candidate for the treatment of onychomycosis. In addition, on May 2, 2013, Valeant agreed that the launch of efinaconazole will not occur until after the Company’s September 2013 arbitration hearing to resolve the breach of contract dispute. As a result, the preliminary injunction hearing, which was previously scheduled for May 2013, was canceled. The Company has carefully reviewed its position and believes that it has meritorious claims; however, the Company will need to prove such claims in the arbitration hearing.

13

Table of Contents

On November 28, 2012, the Company filed an arbitration demand with JAMS alleging breach of contract by Medicis under the February 9, 2011 research and development agreement between Medicis and the Company (the Medicis Agreement) and seeking damages in the form of payment for the achievement of certain preclinical milestones under that agreement. On December 11, 2012, Medicis filed a complaint for breach of the Medicis Agreement and a motion for preliminary injunction in the Delaware Court of Chancery seeking to enjoin the Company from prosecuting its claims through arbitration and to require the Company to continue to use diligent efforts to conduct research and development under the Medicis Agreement. On January 16, 2013, the Company filed a motion requesting that the Delaware Court of Chancery dismiss the Medicis suit and send the dispute back to arbitration. On February 15, 2013, Medicis filed a brief in opposition to the Company’s motion to dismiss in favor of arbitration. On March 4, 2013, the Company filed a reply brief in support of its motion to dismiss. The parties recently completed oral arguments on the motion to dismiss and are awaiting the ruling on the motion. The Company intends to vigorously enforce its rights under the Medicis Agreement and believes it has meritorious defenses against Medicis’ filed complaint and motion. Medicis was acquired by Valeant in December 2012.

5. Notes Payable

On June 7, 2013, the Company entered into a loan and security agreement (the Loan Agreement) with Hercules Technology Growth Capital, Inc. as collateral agent and a lender and Hercules Technology III, L.P. as a lender (the lenders, or together Hercules) under which the Company may borrow up to $45.0 million in three tranches of $30.0 million, $10.0 million and $5.0 million (the Loan Facility).

The first $30.0 million tranche was drawn at the closing of the transaction, at which time the Company repaid $22.6 million in remaining obligations associated with its previous loan. Subject to the terms and conditions of the Loan Agreement, the second tranche of up to $10.0 million is available to the Company at its discretion, and the third tranche is available to the Company upon confirmation of the U.S. Food and Drug Administration (FDA) approval of the tavaborole NDA. The second tranche of $10.0 million will be available for drawdown through December 5, 2013, and the third tranche of $5.0 million will be available for drawdown through the earlier to occur of December 15, 2014 or 30 days after the FDA approval of tavaborole. The interest rate applicable to each tranche is a variable rate based upon the greater of either  (i) 11.65% or (ii) the sum of (a) the Prime Rate (as defined in the Loan Agreement) as reported in The Wall Street Journal minus 5.25%, plus (b) 11.65%; with a maximum interest rate of 14.90%. Payments under the Loan Agreement are interest only until January 1, 2015 (or if the FDA approves tavaborole on or before December 15, 2014, the interest only period is extended to July 1, 2015), followed by equal monthly payments of principal and interest through the scheduled maturity date on July 1, 2017.

The Company paid Hercules financing fees of $0.5 million and incurred other debt issuance costs, including legal fees, of $0.4 million in connection with the loan. These fees are being accounted for as a debt discount and deferred debt issuance costs, respectively. In addition, if the Company repays all or a portion of the loan prior to maturity, it will pay Hercules a prepayment penalty fee, based on a percentage of the then outstanding principal balance, equal to 3% if the prepayment occurs prior to June 7, 2014, 2% if the prepayment occurs prior to June 7, 2015, or 1% if the prepayment occurs prior to July 1, 2017.

The Loan Agreement includes customary affirmative and restrictive covenants, but does not include any covenants to attain or maintain any specific financial metrics, and also includes standard events of default, including payment defaults, breaches of covenants following any applicable cure period, a material impairment in the perfection or priority of Hercules’ security interest or in the value of the collateral and a material impairment of the prospect of repayment of the loans. Upon the occurrence of an event of default and until any such default has been cured, a default interest rate of an additional 5% may be applied to the outstanding loan balances, and Hercules may declare all outstanding obligations immediately due and payable and take such other actions as set forth in the Loan Agreement.

The loan is secured by all assets of the Company except intellectual property. Under the loan agreement, the Company also agreed to certain restrictions regarding the pledging or encumbrance of its intellectual property, except that the Company may grant non-exclusive licenses of intellectual property entered into in the ordinary course of business, and licenses approved by the Company’s Board of Directors that may be exclusive in respects other than territory and may be exclusive as to territory as to discrete geographical areas outside of the United States.

In connection with the Loan Agreement, the Company issued warrants to Hercules to purchase 528,375 shares of its common stock at an exercise price of $5.11 per share (the Warrants). The Warrants are immediately exercisable and may be exercised on a cashless basis. The Warrants will terminate, if not earlier exercised, on the earlier of June 7, 2018 and the closing of certain merger or consolidation transactions in which the consideration is cash, stock of a publicly traded acquirer or a combination thereof. The fair value of the warrants issued was approximately $1.8 million and was calculated using a Black-Scholes valuation model with the following assumptions: risk-free interest rate of 1.1% based upon observed risk-free interest rates appropriate for the expected term of the warrants; expected volatility of 81% based on the average historical volatilities of a peer group of publicly-traded companies within the Company’s industry; expected term of 5 years, which is the contractual life of the warrants; and a dividend yield of 0%. The Company recorded a debt discount of $1.8 million to additional paid-in capital associated with the issuance of the Warrants.

14

Table of Contents

The interest on the loan was calculated using the interest method with the debt issuance costs paid directly to Hercules (financing fees) and the fair value of the warrants issued to Hercules treated as a discount on the debt. The Company’s debt issuance costs for legal fees and other debt-related expenses are included as prepaid expenses and other current assets and as other assets in the accompanying condensed balance sheet. The amortization of the debt discount is recorded as a noncash interest expense and the amortization of the debt issuance costs is recorded as other expense in the condensed statements of operations.

In June 2013, the Company recorded a loss of approximately $1.4 million on the early extinguishment of its previous debt. This loss is recorded as a loss on early extinguishment of debt in 2013 in the statements of operations.

Future payments as of June 30, 2013 are as follows (in thousands):

The Company recorded interest expense related to all borrowings of $0.9 million and $0.6 million for the three months ended June 30, 2013 and 2012, respectively, and $1.8 million and $1.3 million for the six months ended June 30, 2013 and 2012, respectively. Included in interest expense for these periods was $0.2 million and $0.1 million for the three months ended June 30, 2013 and 2012, respectively, and $0.3 million and $0.2 million for the six months ended June 30, 2013 and 2012, respectively, for the amortization of the financing fees and debt discounts. The annual effective interest rate on amounts borrowed under the Loan Agreement, including the amortization of the debt discounts, is 16.4%.

6. License, Research, Development and Commercialization Agreements

Gates Foundation

On April 5, 2013, the Company entered into a Research Agreement (the Research Agreement) with the Gates Foundation to discover drug candidates intended to treat two filarial worm diseases (onchocerciasis, or river blindness, and lymphatic filariasis, commonly known as elephantiasis) and tuberculosis (TB). Under the Research Agreement, the Gates Foundation will pay the Company up to $17.7 million over a three-year research term (the Research Funding) to conduct research activities directed at discovering potential neglected disease drug candidates in accordance with an agreed upon research plan. As part of the funded research activities, the Company is also responsible for creating, during the first 18 months following execution of the Research Agreement, an expanded library of boron compounds to screen for additional potential drug candidates to treat neglected diseases (the Library). Once the Library is completed, the Company is responsible for storing the Library compounds and making them accessible to the Gates Foundation and other parties to which the Foundation grants access (the Library Access Services) for the subsequent five-year period.

Upon signing the Research Agreement, the Company received an advance payment of $1.75 million of Research Funding (the Advance Funds). These Advance Funds will be replenished by the Gates Foundation each quarter following the Company’s submission of a quarterly report of the expenses incurred for the research activities conducted in the prior quarter. In addition, the Gates Foundation paid the Company a total of $0.7 million, and will pay an additional $0.1 million in August 2013, as reimbursement for the costs of filarial worm research that was included in the agreed upon research plan, which the Company conducted prior to the April 5, 2013 effective date of the Research Agreement (the Pre-Contract Reimbursements). These Pre-Contract Reimbursements are non-refundable, non-creditable payments and are included in the $17.7 million of Research Funding.

15

Table of Contents

Under the terms of the agreement, the Gates Foundation will have the exclusive right to commercialize selected drug candidates in specified neglected diseases in specified developing countries. The Company retains the exclusive right to commercialize any selected drug candidate outside of the specified neglected diseases as well as with respect to the specified neglected diseases in specified developed countries and would be obligated to pay the Gates Foundation royalties on specified license revenue received. The Research Agreement will continue in effect until the later of five years from the effective date or the expiration of the Company’s specified obligation to provide access to the expanded library compounds. Either party may terminate the Research Agreement for the other party’s uncured material breach of the Research Agreement.

In connection with the Research Agreement, the Company entered into a Common Stock Purchase Agreement (the Purchase Agreement) pursuant to which the Company issued 809,061 shares of potentially redeemable common stock to the Gates Foundation for net proceeds of approximately $5.0 million (the Stock Proceeds)  (see Note 7). In addition, in connection with both the Research Agreement and the Purchase Agreement, the Company and the Foundation entered into a letter agreement (the Letter Agreement) that, among other things, restricts the Company’s use of both the Research Funding and the Stock Proceeds to expenditures, including an allocation of overhead and administrative expenses, that are reasonably attributable to the activities that are required to support the research projects funded by the Foundation. As a result of such restrictions, in its June 30, 2013 condensed balance sheet, the Company classified $3.5 million of the Stock Proceeds as noncurrent restricted investments and $1.1 million of the Stock Proceeds plus the unspent portion of the Advance Funds, approximately $0.5 million, as current restricted investments.

The Company evaluated the Research Agreement under the accounting guidance for multiple-element arrangements and identified three deliverables:  the research activities, the 5-year library access and the obligation to participate in the joint steering committee. Although participation in the joint steering committee has stand alone value, it will be delivered as the research activities are performed and has a similar pattern of performance. Accordingly the Company has combined this deliverable with the research activities deliverable as a single unit of accounting. The Company developed its best estimates of selling prices (BESP) for each deliverable in order to allocate the arrangement consideration to the two units of accounting. The Company determined the BESP for the research activities based on factors such as estimated direct expenses and other costs involved in providing these services, the contractually agreed reimbursement rates for the services and the rates it has charged and the margins it has realized under its other contracts involving the provision of and reimbursement for research services. The Company determined the BESP for the Library Access Services based on the projected costs that would be incurred to have a third party store and distribute the library compounds and the estimated costs that would be incurred to provide the Library Access Services for the required 5-year period, plus a reasonable margin, and concluded that the BESP of such services is insignificant. As a result, the entire arrangement consideration will be allocated to the research activities and joint steering committee combined unit of accounting. The Company will recognize revenue related to this unit of accounting on a proportional performance basis and the revenue that is recognized as future research services are performed will reduce the Advance Funds. The unspent portion of the Advance Funds will be recorded as deferred revenue in the Company’s condensed balance sheets.

The Company also evaluated the accounting treatment for the $0.8 million of Pre-Contract Reimbursements, noting that the research activities that gave rise to such reimbursements were conducted prior to the signing of the Research Agreement. The Company concluded that activities performed prior to commencing delivery of the contracted services should not be considered in effort-expended measures of performance when revenue is recognized for services using a proportional performance method and, accordingly, the Company will recognize revenue from the Pre-Contract Reimbursements over the three-year research term on a proportional performance basis. Through June 30, 2013, the Company recognized total revenue of $1.3 million under the Research Agreement. As of June 30, 2013, the Company has deferred revenue of $1.2 million, consisting of $0.5 million related to the unspent Advance Funds and $0.7 million related to the Pre-Contract Reimbursements.

Revenues recognized under the Research Agreement were as follows (in thousands):

16

Table of Contents

GSK

In September 2011, the Company amended and expanded its 2007 research and development collaboration with GSK (the Master Amendment) to, among other things, give effect to certain rights in AN3365 that would be acquired by the U.S. government in connection with GSK’s contract for government funding to support GSK’s further development of AN3365, provide GSK the option to extend its rights around the bacterial enzyme target leucyl-tRNA synthetase (LeuRS), as well as to add new programs for TB and malaria using the Company’s boron chemistry platform. As a result of the Master Amendment, the Company received a $5.0 million upfront payment in September 2011 (the Amendment Fee) and may receive additional milestone payments as described below, all of which, when earned, will be non-refundable and non-creditable.

Under the terms of the Master Amendment, GSK retained sole responsibility for the further development and commercialization of AN3365. In October 2012, GSK advised the Company that it had discontinued further development of AN3365; accordingly, all rights to the compound have reverted to the Company. The Company is considering its options for further development, if any, of AN3365.

The Master Amendment allowed GSK to initiate an additional collaborative research program directed toward LeuRS (New Research Program) and, provided such initiation occurs before October 5, 2013, the term of the collaboration agreement would be extended for a minimum of two years from the date of such initiation. If GSK elects to initiate a New Research Program, depending on the target for such New Research Program, the Company would become eligible to receive milestone payments of up to $17.6 million upon the occurrence of certain development events related to selection of compounds as candidates for further development and initiation of a clinical trial. However, because the decision to initiate a New Research Program is solely up to GSK, and based on the current status of the Company’s research directed toward LeuRS, there can be no assurance that any such milestones will ever be earned or received by the Company.

The Master Amendment also includes the option for GSK to acquire rights to certain compounds from the Company’s malaria program, which the Company conducts through a collaboration with Medicines for Malaria Venture (MMV). GSK will have the option to license certain compounds from the program on an exclusive worldwide basis upon completion of a proof of concept clinical trial (the Malaria Option). Upon exercise of this option, GSK would assume sole responsibility for the further development and commercialization of any such compounds, the Company would receive a $5.0 million option exercise payment from GSK and, pursuant to a related September 2011 amendment to the Company’s development agreement with MMV, the Company would be obligated to pay MMV one-third of the option exercise payment (the MMV Option Exercise Payment). The Company has determined the potential $5.0 million option exercise payment from GSK is a substantive milestone. However, because the exercise of the Malaria Option is solely up to GSK, and based on the compounds the Company and MMV are currently evaluating under the Company’s malaria program, there can be no assurance that such milestone payment will ever be earned or received by the Company. Development of the initial lead candidate under the MMV collaboration was discontinued in November 2011 and none of the other compounds currently being evaluated by the Company and MMV as potential lead candidates are subject to the Malaria Option under the Company’s Master Amendment with GSK.

The Company evaluated the contingent payments under the agreement with GSK, as amended by the Master Amendment, and determined that the milestone payments described above meet the definition of a milestone under the current accounting standards and that all such milestones are substantive. Accordingly, revenue from such milestones will be recognized in its entirety in the period when the milestone is achieved and collectibility is reasonably assured. For the three and six months ended June 30, 2013 and 2012, the Company did not recognize any revenue from milestone payments under its agreement with GSK.

In 2007, pursuant to the original agreement, GSK paid the Company a $12.0 million non-refundable, non-creditable upfront fee, which the Company was recognizing, up until the date of the Master Amendment, over the six-year research collaboration term on a straight-line basis in accordance with the revenue recognition guidance for multiple element arrangements. In September 2011, the Company determined that the Master Amendment was a material modification to the original agreement for financial reporting purposes and that there were no undelivered elements remaining from the original agreement and recognized the remaining deferred revenue balance from the 2007 upfront fee. As of June 30, 2013, the Company has no deferred revenue associated with the GSK agreement.

17

Table of Contents

Revenues recognized under this agreement were as follows (in thousands):

Lilly

In August 2010, the Company entered into a research agreement with Lilly under which the companies will collaborate to discover products for a variety of animal health applications. Lilly will be responsible for worldwide development and commercialization of compounds advancing from these efforts. The Company received an upfront payment of $3.5 million in September 2010, which is being recognized over a four-year research term on a straight-line basis. Through June 30, 2013, the Company has also received $8.6 million in research funding under the agreement with the potential to receive up to a total of $12.0 million in such research funding, if neither party cancels the agreement prior to the completion of the research term. In both 2012 and 2011, the Company received milestone payments of $1.0 million each from Lilly for the selection of development compounds and would be eligible to receive additional payments upon the occurrence of specified development and regulatory events. Included in such additional payments are potential payments of up to $2.0 million for the selection of additional development compounds, which the Company has determined are substantive milestones. To date, no products have been approved and therefore no royalties have been earned under this agreement. As of June 30, 2013, the Company has deferred revenue of $1.0 million related to the upfront fee and $0.8 million related to the research funding.

Revenues recognized under the agreement and for other research services were as follows (in thousands):

Medicis

In February 2011, the Company entered into a research and development agreement with Medicis to discover and develop boron-based small molecule compounds directed against a target for the potential treatment of acne. The Company will be primarily responsible during a defined research collaboration term for discovering and conducting early development of product candidates that utilize the Company’s proprietary boron chemistry platform. The Company granted Medicis a non-exclusive, non-royalty bearing license to utilize a relevant portion of the Company’s intellectual property, solely as and to the extent necessary, to enable Medicis to perform additional development work under the agreement. Medicis will also have an option to obtain an exclusive license for products resulting from this collaboration. Upon exercise of this option, Medicis will assume sole responsibility for further development and commercialization of the applicable product candidate on a worldwide basis. On November 28, 2012, the Company filed an arbitration demand alleging breach of contract by Medicis under the Medicis Agreement, and on December 11, 2012, Medicis filed a complaint for breach of the Medicis Agreement and a motion for preliminary injunction. On January 16, 2013, the Company filed a motion to dismiss the Medicis suit and send the dispute back to arbitration. On February 15, 2013, Medicis filed a brief in opposition to the Company’s motion to dismiss in favor of arbitration. On March 4, 2013, the Company filed a reply brief in support of its motion to dismiss. The parties recently completed oral arguments on the motion to dismiss and are awaiting the ruling on the motion (see Note 4).

Under the terms of the agreement, the Company received a $7.0 million upfront payment from Medicis in February 2011. The Company has identified the deliverables within the arrangement as a license on the technology and on-going research and development activities. The Company has concluded that the license is not a separate unit of accounting as it does not have stand-alone value to Medicis. Through December 31, 2012, the Company recognized revenue from the upfront payment on a straight-line basis over a six-year research term. For the six months ended June 30, 2013, the Company did not perform any research and development activities under the Medicis Agreement as a result of the pending legal proceedings. Accordingly, the Company did not recognize any revenue associated with the Medicis Agreement for this period of time. Revenue recognition under the agreement will be reevaluated each future reporting period based on the Company’s level of research and development activities under the agreement, which may be determined by the status of the legal proceedings. As of June 30, 2013, the Company has deferred revenue of $4.8 million related to the upfront fee, which has been classified as noncurrent deferred revenue.

18

Table of Contents

The Company will also be eligible to receive contingent payments if specified development and regulatory events occur. All such contingent payments, when earned, will be non-refundable and non-creditable. The Company evaluated the contingent payments under the agreement with Medicis and determined that certain of these payments meet the definition of a milestone under the current accounting standards and that all such milestones are substantive. Accordingly, revenue related to such milestones will be recognized in its entirety in the period when the milestone is achieved and collectibility is reasonably assured. These potential milestone payments of up to $33.0 million would be due upon the occurrence of certain development events related to selection of compounds as candidates for further development or as back-up compounds, initiation of a clinical trial and achievement of proof of concept criteria. However, based on the current status of compounds subject to the agreement with Medicis and the current legal proceedings with Medicis, as well as the fact that the decisions that may result in these milestone payments are within Medicis’ control, there can be no assurance that such milestone payments will ever be earned or received by the Company. Through June 30, 2013, the Company did not recognize any revenue from milestones under its agreement with Medicis.

Revenues recognized under this agreement related to the upfront payment were as follows (in thousands):

MMV

In March 2011, the Company entered into a three-year development agreement with MMV to collaborate on the development of compounds for the treatment of malaria through human proof-of-concept studies. In August 2011, the Company and MMV amended the development agreement (Amendment 1) to expand, and increase the funding for, the Company’s malaria compound development activities. In addition, pursuant to Amendment 1, any advance payments in excess of the actual costs incurred by the Company for the research and development activities under the agreement are either refundable or creditable against future payments, at MMV’s option. In September 2011, the Company and MMV further amended their research and development agreements (Amendment 2) to allow, among other things, the Company to grant GSK an option to sublicense certain malaria compounds on an exclusive worldwide basis upon the completion of a proof of concept clinical trial. Upon exercise of this option, GSK would assume sole responsibility for the further development and commercialization of the licensed compounds subject to the option, the Company would receive an option exercise payment from GSK and the Company would be obligated to pay MMV one-third of the option exercise payment (the MMV Option Exercise Payment). In November 2011, development of the initial lead candidate under the MMV collaboration was discontinued and the Company and MMV are in the process of evaluating other compounds of the Company to determine if there is another potential lead candidate for development. None of the other compounds currently being evaluated are subject to the Malaria Option under the Company’s Master Amendment with GSK.

In March 2013, the Company received an advance payment of $0.3 million for 2013 research funding in connection with the extension of the previous research agreement with MMV through December 2013. The Company will recognize revenue from the advance payments as the research and development activities are performed. As of June 30, 2013, the Company has deferred revenue of $10,000 associated with its agreements with MMV.

Revenues recognized under the MMV research and development agreements were as follows (in thousands):

19

Table of Contents

7. Redeemable Common Stock and Stockholders’ Equity

Potentially Redeemable Common Stock

In connection with the Research Agreement (see Note 6), the Company entered into a Common Stock Purchase Agreement (the Purchase Agreement) with the Gates Foundation pursuant to which the Company issued 809,061 shares of its unregistered common stock at a purchase price of $6.18 per share. Net proceeds to the Company from this offering were approximately $5.0 million, after deducting offering expenses of $48,000. On June 28, 2013, the Company filed a registration statement on Form S-3 with the SEC, which became effective on July 11, 2013, to register the resale of the 809,061 shares of common stock. In the event of termination of the Research Agreement by the Gates Foundation for certain specified uncured material breaches by the Company (the Triggering Events), the Company will be obligated, among other remedies, to redeem for cash the Company’s common stock purchased in connection with the Research Agreement, facilitate the purchase of such common stock by a third party or elect to register the resale of such common stock into the public markets unless certain specified conditions are satisfied. In connection with both the Research Agreement and the Purchase Agreement, the Company and the Foundation also entered into the Letter Agreement that, among other things, places certain restrictions on the use of both the Research Funding and the Stock Proceeds (see Note 6, Gates Foundation).

The Company concluded that certain of these Triggering Events are not solely within the control of the Company; and, accordingly, has classified the potentially redeemable securities outside of permanent equity in temporary equity. The 809,061 shares of common stock issued were recorded as potentially redeemable common stock at an initial carrying amount equal to the net proceeds of approximately $5.0 million, which approximates their issuance date fair value.

The Company has determined that the 809,061 shares of potentially redeemable common stock are not currently redeemable and that none of the Triggering Events are currently probable. Accordingly, the carrying amount of the potentially redeemable common stock remains at approximately $5.0 million as of June 30, 2013. Only if, and when, a Triggering Event becomes probable will the Company record a change in the carrying amount to adjust it to the redemption value of the potentially redeemable common stock. At the time of such an occurrence, the potentially redeemable common stock will be immediately adjusted, by a credit or charge to other income or expense, to equal the redemption value and will continue to be adjusted to reflect any change in the redemption value as of the end of each reporting period.

Shelf Registration

In December 2012, the Company filed a shelf registration statement on Form S-3 with the SEC. The shelf registration was declared effective by the SEC on December 21, 2012 and permits the Company to sell, from time to time, up to $75.0 million of common stock, preferred stock, debt securities and warrants.

Common Stock Offerings

On January 18, 2013, the Company entered into an equity distribution agreement (the Wedbush Agreement) with Wedbush Securities Inc. (Wedbush) under which the Company may, from time to time, offer and sell its common stock having aggregate sales proceeds of up to $25.0 million through Wedbush, or to Wedbush, for resale. Sales of the Company’s common stock through Wedbush, if any, will be made by means of ordinary brokers’ transactions on The NASDAQ Global Market or otherwise at market prices prevailing at the time of sale, in block transactions, or as otherwise agreed upon by the Company and Wedbush and may be made in sales deemed to be “at-the-market” equity offerings. Wedbush will use commercially reasonable efforts to sell the Company’s common stock from time to time, based upon instructions from the Company (including any price, time or size limits or other customary parameters or conditions the Company may impose). The Company will pay Wedbush a commission, or allow a discount, as the case may be, in each case equal to 2.0% of the gross sales proceeds of any common stock sold through Wedbush as agent under the Wedbush Agreement. The Company has also agreed to reimburse Wedbush for certain expenses up to an aggregate of $150,000, of which $45,000 has been incurred through June 30, 2013.

Under the terms of the Wedbush Agreement, the Company also may sell its common stock to Wedbush, as principal for its own account, at a price to be agreed upon at the time of sale. Through June 30, 2013, the Company sold 401,500 shares of the Company’s common stock under the Agreement for net proceeds to the Company of approximately $1.3 million, after deducting the underwriting discount and other offering costs, including commissions to Wedbush for such sales of approximately $27,000. For the three months ended June 30, 2013, there were no shares of the Company’s common stock sold under the Wedbush Agreement.

On May 1, 2013, the Company issued and sold 3,599,373 shares of the Company’s common stock pursuant to an underwriting agreement (the Underwriting Agreement) with Cowen and Company, LLC as representative of the several underwriters (the Underwriters) for the issuance and sale of up to 3,599,373 shares of the Company’s common stock, including 469,483 shares issued to the Underwriters pursuant to a 30-day overallotment option. The price to the public in this offering was $6.39 per share, and the Underwriters purchased the shares from the Company pursuant to the Underwriting Agreement at a price of $6.0066 per share. The net proceeds to the Company from this offering, including the exercise of the overallotment option by the Underwriters, were approximately $21.3 million, after deducting the underwriting discount of $1.4 million and other offering expenses of $0.3 million.

20

Table of Contents

8. Stock-Based Compensation

The Company recorded stock-based compensation expense for the three and six months ended June 30, 2013 and 2012 as follows (in thousands):

For the three and six months ended June 30, 2013, the Company issued 33,023 and 58,765 shares of the Company’s common stock and received approximately $0.1 million and $0.2 million, respectively, in cash from the exercise of stock options. Total stock options granted for the three and six months ended June 30, 2013 were 1,340,020 shares, which included no stock option grants to nonemployee advisors and 1,381,320 shares, which included stock option grants for 27,000 shares to nonemployee advisors, respectively. Grants to nonemployee advisors do not include grants made to the Company’s nonemployee directors for their board-related services. The weighted-average fair value per share of options granted to employees and the Company’s nonemployee directors was $4.70 and $4.68 for the three and six months ended June 30, 2013, respectively.

At June 30, 2013, there were outstanding stock options to purchase 5,056,549 shares of the Company’s common stock. At June 30, 2013, the Company had $9.4 million and $0.1 million of unrecognized compensation expense, net of estimated forfeitures, related to outstanding stock options and Employee Stock Purchase Program (ESPP) stock purchase rights, respectively, that will be recognized over a weighted-average period of 2.5 years and 0.6 years, respectively. For the six months ended June 30, 2013, there were 52,439 shares of the Company’s common stock purchased under the ESPP. No shares were purchased under the ESPP during the three months ended June 30, 2013.

21

Table of Contents

ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

You should read the following discussion and analysis together with our condensed financial statements and the notes to those statements included elsewhere in this Quarterly Report on Form 10-Q. This discussion contains forward-looking statements that involve risks and uncertainties. We use words such as “may,” “will,” “expect,” “anticipate,” “estimate,” “intend,” “plan,” “predict,” “potential,” “believe,” “should” and similar expressions to identify forward-looking statements. These statements appearing throughout this Quarterly Report on Form 10-Q are statements regarding our intent, belief, or current expectations, primarily regarding our operations. You should not place undue reliance on these forward-looking statements, which apply only as of the date of this Quarterly Report on Form 10-Q. As a result of many factors, such as those set forth under “Risk Factors” and elsewhere in this Quarterly Report on Form 10-Q, our actual results may differ materially from those anticipated in these forward-looking statements.

Overview

We are a biopharmaceutical company focused on discovering, developing and commercializing novel small-molecule therapeutics derived from our boron chemistry platform. The productivity of our internal discovery capability has enabled us to generate a pipeline of both topical and systemic boron-based compounds. We have discovered, synthesized and developed eight molecules that are currently in development.

Our lead product candidates include two topically administered dermatologic compounds—tavaborole (formerly referred to as AN2690), an antifungal for the treatment of onychomycosis, and AN2728, an anti-inflammatory for the treatment of atopic dermatitis and psoriasis. In addition, we have three other wholly-owned clinical product candidates—AN2718 and AN2898, which are backup compounds to tavaborole and AN2728, respectively,  and AN3365 (formerly referred to as GSK2251052, or GSK ‘052), an antibiotic for the treatment of infections caused by Gram-negative bacteria, which was previously licensed to GlaxoSmithKline LLC, or GSK. In October 2012, GSK advised us that it had discontinued further development of AN3365; accordingly, all rights to this compound reverted to us. We are considering our options for further development, if any, of this compound. We have also discovered three other compounds that we have out-licensed for further development—two are licensed to Eli Lilly and Company, or Lilly, for the treatment of animal health indications, and the third compound, AN5568, also referred to as SCYX-7158, is licensed to Drugs for Neglected Diseases initiative, or DNDi, for human African trypanosomiasis (HAT, or sleeping sickness). We also have a pipeline of other internally discovered topical and systemic boron-based compounds in development.

Our most advanced product candidate is tavaborole. In the first quarter of 2013, we reported positive results from both Phase 3 trials conducted under a Special Protocol Assessment, or SPA, with the United States Food and Drug Administration, or FDA. Tavaborole achieved a high degree of statistical significance on all primary and secondary endpoints. In the first trial, 6.5% of patients treated with tavaborole met the primary endpoint of “complete cure,” compared with 0.5% of patients treated with vehicle (p=0.001) at week 52. In the second trial, 9.1% of patients treated with tavaborole met the primary endpoint of “complete cure,” compared with 1.5% of patients treated with vehicle (p<0.001) at week 52. “Complete cure” is a composite endpoint that requires both a mycological cure and a completely clear nail. We filed a New Drug Application, or NDA, for tavaborole in July 2013.

For AN2728, we completed a Phase 2 dose-ranging trial in psoriasis in the second quarter of 2010, a second Phase 2 clinical trial in psoriasis in the second quarter of 2011 and a Phase 1 absorption trial in the third quarter of 2011. We also completed a Phase 2 trial of AN2728 and AN2898, our second topical anti-inflammatory product candidate, in mild-to-moderate atopic dermatitis in the fourth quarter of 2011. In early 2012, we completed two safety studies of AN2728. Given the positive outcome from our atopic dermatitis trial, the safety profile exhibited by AN2728 and the large unmet need in atopic dermatitis relative to psoriasis, we intend to focus our AN2728 development efforts on atopic dermatitis in the near future and defer the start of the Phase 3 trial for psoriasis. As such, we initiated a Phase 2 safety, pharmacokinetics, or PK, and efficacy trial for mild-to-moderate atopic dermatitis in adolescents in July 2012 and a Phase 2 dose-ranging study in mild-to-moderate atopic dermatitis in adolescents in August 2012. We completed the Phase 2 safety, PK and efficacy trial in December 2012 with positive results. We completed the Phase 2 dose-ranging trial in March 2013, which demonstrated a clear dose response across four dosing regimens and helped identify the 2.0% BID dosing regimen as optimal for our Phase 3 program in mild-to-moderate atopic dermatitis, which we expect to initiate in the fourth quarter of 2013 or the first quarter of 2014. We initiated a MUSE (maximal use systemic exposure) study in children with atopic dermatitis in July 2013 and intend to initiate a cardiac safety trial for AN2728 in atopic dermatitis in the second half of 2013. In addition to the MUSE study and the cardiac safety trial, we currently anticipate that the remaining clinical studies that will be required for an NDA filing for AN2728 for mild-to-moderate atopic dermatitis include drug-to-drug interaction studies, repeat insult patch tests for cumulative irritation and sensitization, two Phase 3 trials and a long-term safety trial.

In October 2007, we entered into a research and development collaboration, option and license agreement with GSK for the discovery, development and worldwide commercialization of boron-based systemic anti-infectives. In September 2011, we amended and expanded the GSK agreement to, among other things, provide GSK the option to extend its rights around the bacterial enzyme target leucyl-tRNA synthetase, or LeuRS, as well as to add a new research program using our boron chemistry platform for tuberculosis, or TB, which is currently being funded by GSK. The amendment also gives GSK options to initiate an additional collaborative research program directed towards LeuRS and to acquire rights to certain specified compounds from Anacor’s malaria program, which is currently being conducted through a collaboration with Medicines for Malaria Venture, or MMV. None of the compounds currently being evaluated as potential lead candidates under this program are subject to GSK’s option.

22

Table of Contents

In August 2010, we entered into a research, license and commercialization agreement with Lilly, under which we are collaborating to discover products for a variety of animal health applications. Pursuant to this agreement, Lilly selected the first development compound for an animal health indication in August 2011 and, in December 2012, they selected a second development compound for another animal health indication. Lilly will be responsible for all further development and commercialization of these compounds.

In February 2011, we entered into a research and development collaboration with Medicis Pharmaceutical Corporation, or Medicis, to discover and develop compounds directed against a target for the potential treatment of acne. On November 28, 2012, we filed for arbitration for breach of contract by Medicis seeking damages in the form of payment for the achievement of certain preclinical milestones under the collaboration. On December 11, 2012, Medicis filed a complaint for breach of the collaboration and a motion for preliminary injunction seeking to enjoin us from prosecuting our claims through arbitration and to require us to continue to use diligent efforts to conduct research and development under the agreement. On January 16, 2013, we filed a motion requesting that the Medicis suit be dismissed and that the dispute be sent back to arbitration. On February 15, 2013, Medicis filed a brief in opposition to our motion to dismiss in favor of arbitration. On March 4, 2013, we filed a reply brief in support of our motion to dismiss. The parties recently completed oral arguments on the motion to dismiss and are awaiting the ruling on the motion. We intend to vigorously enforce our rights under the collaboration and believe that we have meritorious defenses against Medicis’ filed complaint and motion. Medicis was acquired by Valeant in December 2012.

In April 2013, we entered into a research agreement with the Bill & Melinda Gates Foundation, or the Gates Foundation, to discover drug candidates intended to treat two filarial worm diseases (onchocerciasis, or river blindness, and lymphatic filariasis, commonly known as elephantiasis) and TB. Under the agreement, the Gates Foundation will pay us up to $17.7 million over a three-year research term to conduct research activities directed at discovering potential neglected disease drug candidates in accordance with an agreed upon research plan. As part of the funded research activities, we are responsible for creating an expanded library of boron compounds to screen for additional potential drug candidates to treat neglected diseases, which will be accessible to the Gates Foundation and other third parties. Under the terms of the agreement, the Gates Foundation will have the exclusive right to commercialize selected drug candidates in specified neglected diseases in specified developing countries. We retain the exclusive right to commercialize any selected drug candidate outside of the specified neglected diseases as well as with respect to the specified neglected diseases in specified developed countries and would be obligated to pay the Gates Foundation royalties on specified license revenue received. The agreement will continue in effect until the later of five years from the effective date or the expiration of our specified obligation to provide access to the expanded library compounds.

In connection with the Gates Foundation agreement, we issued 809,061 shares of unregistered common stock at a purchase price of $6.18 per share for aggregate gross proceeds of $5.0 million. In the event of termination of the agreement by the Gates Foundation for certain specified uncured material breaches by us, we will be obligated, among other remedies, to either redeem our common stock purchased in connection with the agreement, facilitate the purchase of such common stock by a third party or elect to register the resale of such common stock into the public markets unless certain specified conditions are satisfied. In addition, the Gates Foundation agreement places certain restrictions on our use of the research funding and the redeemable common stock proceeds we receive from the Foundation.

We also have several collaborations with organizations that fund research leveraging our boron chemistry to discover new treatments for neglected diseases. In addition to potentially developing new therapies for such diseases, these collaborations provide us the potential benefits of expanding the chemical diversity of our boron compounds, understanding new properties of our boron compounds, receiving future incentives, such as the potential grant of a priority review voucher by the FDA, and ultimately, if a drug is approved, potential revenue in some regions. Our collaboration partners include DNDi to develop new therapeutics for HAT, visceral leishmaniasis and Chagas disease, MMV to develop compounds for the treatment of malaria, the Global Alliance for Livestock Veterinary Medicines (GALVMed) for the treatment of African animal trypanosomiasis and the Liverpool School of Tropical Medicine for the treatment of river blindness and lymphatic filariasis. In 2011, DNDi completed pre-clinical studies of AN5568 for HAT and, in March 2012, AN5568 became the first compound from our neglected diseases initiatives to enter human clinical trials.

In December 2012, we filed a shelf registration statement on Form S-3 with the SEC. The shelf registration was declared effective by the SEC on December 21, 2012 and permits the Company to sell, from time to time, up to $75.0 million of common stock, preferred stock, debt securities and warrants.

23

Table of Contents

In January 2013, we entered into an equity distribution agreement with Wedbush Securities Inc., or Wedbush, under which we may, from time to time, offer and sell common stock having aggregate sales proceeds of up to $25.0 million through Wedbush, or to Wedbush, for resale. Sales of our common stock through Wedbush will be made by means of ordinary brokers’ transactions on The NASDAQ Global Market or otherwise at market prices prevailing at the time of sale, in block transactions, or as otherwise agreed upon by us and Wedbush and may be made in sales deemed to be “at-the-market” equity offerings. We will pay Wedbush a commission, or allow a discount, as the case may be, in each case equal to 2.0% of the gross sales proceeds of any common stock sold through Wedbush as agent under this agreement. We have also agreed to reimburse Wedbush for certain expenses up to an aggregate of $150,000, of which $45,000 has been incurred through June 30, 2013.

Under the terms of this agreement, we also may sell our common stock to Wedbush, as principal for its own account, at a price to be agreed upon at the time of sale. Through June 30, 2013, we sold 401,500 shares of our common stock under the Agreement. No shares were sold under this agreement during the three months ended June 30, 2013. The net proceeds from these sales were approximately $1.3 million, after deducting the underwriting discount and other offering costs, and we may sell up to an additional $23.6 million in authorized but unsold shares of our common stock under this agreement.

In May 2013, we issued and sold 3,599,373 shares of our common stock, including 469,483 shares issuable to the underwriters pursuant to the overallotment option, in connection with an underwriting agreement with Cowen and Company, LLC, as representative of the several underwriters. The price to the public in this offering was $6.39 per share, for gross proceeds of approximately $23.0 million, and the underwriters purchased the shares from us at a price of $6.0066 per share. Our net proceeds from this offering were approximately $21.3 million, after deducting the underwriting discount and other offering costs.

In June 2013, we entered into a loan and security agreement with Hercules Technology Growth Capital, Inc. as collateral agent and a lender and Hercules Technology III, L.P. as a lender, or together, Hercules, under which we may borrow up to $45.0 million in three tranches of $30.0 million, $10.0 million and $5.0 million. We borrowed the first tranche upon the closing of the transaction. We used $22.6 million of the proceeds to repay the remaining obligation under our previous loan and security agreement with Oxford Finance Corporation, or Oxford, and Horizon Technology Finance Corporation, or Horizon, and expect to use the remaining capital to fund development and commercialization activities related to our product candidates.

We began business operations in March 2002. To date, we have not generated any revenue from product sales and have never been profitable. As of June 30, 2013, we have an accumulated deficit of $244.4 million. We have funded our operations primarily through the sale of equity securities, payments received under our agreements with Schering Corporation, or Schering, GSK, Lilly, Medicis and the Gates Foundation, government contracts and grants, contracts with not-for-profit organizations for neglected diseases and borrowings under debt arrangements. We expect to incur losses in future periods. The size of our future losses will depend, in part, on the rate of growth of our expenses, our ability to enter into additional licensing, research and development agreements and future payments earned under our agreements with GSK, Lilly, Medicis, the Gates Foundation or any such future collaboration partners and the outcome of our pending legal proceedings. Our intent is to enter into additional licensing and development agreements to further develop certain of our product candidates and to fund other areas of our research. If the GSK, Lilly, Medicis and/or Gates Foundation agreements are terminated or we are unable to enter into other collaboration agreements, we may incur additional operating losses and our ability to expand and continue our research and development activities and move our product candidates into later stages of development may be limited. Management believes that we currently have sufficient capital resources, including the available funds under our expanded debt facility, to fund our operations until mid-2014. However, additional capital will be needed to complete the potential commercialization of tavaborole, fund other research and development activities and meet our operating requirements beyond mid-2014. To fund our future operations, including research, development and commercialization of our product candidates, we will need to seek additional capital through research and development collaborations; a possible license, collaboration or other similar arrangement with respect to commercialization rights to tavaborole or our other product candidates; public or private equity offerings or debt financings; or a combination of these sources.

Critical Accounting Policies and Significant Judgments and Estimates

Our management’s discussion and analysis of our financial condition and results of operations is based on our condensed financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these condensed financial statements requires us to make estimates and judgments that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements, as well as the reported revenues and expenses during the reporting periods. On an ongoing basis, we evaluate our estimates and judgments related to revenue recognition, preclinical study and clinical trial accruals, accrued compensation, deferred advance payments and stock-based compensation. We base our estimates on historical experience and on various other factors that we believe to be reasonable under the circumstances and review our estimates on an ongoing basis. Actual results may differ from these estimates under different assumptions or conditions.

24

Table of Contents

While our significant accounting policies are described in more detail in our Annual Report on Form 10-K, we believe the following accounting policies to be critical to the judgments and estimates used in the preparation of our condensed financial statements.

Revenue Recognition

Our contract revenues are generated primarily through research and development collaboration agreements, which typically may include non-refundable, non-creditable upfront fees, funding for research and development efforts, payments for achievement of specified development, regulatory and sales goals and royalties on product sales of licensed products.

For multiple element arrangements, we evaluate the components of each arrangement as separate elements based on certain criteria. Where multiple deliverables are combined as a single unit of accounting, revenues are recognized based on the performance requirements of the agreements. We recognize revenue when persuasive evidence of an arrangement exists; transfer of technology has been completed, services are performed or products have been delivered; the fee is fixed or determinable; and collection is reasonably assured.

For arrangements with multiple deliverables, we evaluate each deliverable to determine whether it qualifies as a separate unit of accounting. This determination is generally based on whether the deliverable has stand-alone value to the customer. The selling price used for each unit of accounting will be based on vendor-specific objective evidence, if available, third-party evidence if vendor-specific objective evidence is not available, or estimated selling price if neither vendor-specific nor third-party evidence is available. Our management may be required to exercise considerable judgment in determining whether a deliverable is a separate unit of accounting and in estimating the selling prices of identified units of accounting for new agreements.

Upfront payments for licensing our intellectual property are evaluated to determine if the licensee can obtain stand-alone value from the license separate from the value of the research and development services to be provided by us. Typically, we have determined that the licenses we have granted to collaborators do not have stand-alone value separate from the value of the research and development services provided. As such, upfront payments are recorded as deferred revenue in the condensed balance sheet and are recognized as contract revenue over the contractual or estimated performance period that is consistent with the term of the research and development obligations contained in the research and development collaboration agreement. When stand-alone value is identified, the related consideration is recorded as revenue in the period in which the license or other intellectual property rights are issued.

Some arrangements involving the licensing of our intellectual property, the provision of research and development services or both may also include exclusivity clauses whereby we agree that, for a specified period of time, we will not conduct further research on licensed compounds or on compounds that would compete with licensed compounds or that we will do so only on a limited basis. Such provisions may also restrict the future development or commercialization of such compounds. We do not treat such exclusivity clauses as a separate element within an arrangement and any upfront payments received related to the exclusivity clause would be allocated to the identified elements in the arrangement and recognized as described in the preceding paragraph.

Payments resulting from our efforts under research and development agreements or government grants are recognized as the activities are performed and are presented on a gross basis. Revenue is recorded gross because we act as a principal, with discretion to choose suppliers, bear credit risk and perform part of the services. The costs associated with these activities are reflected as a component of research and development expense in our condensed statements of operations and approximate the revenues recognized from such activities.

For certain contingent payments under research or development arrangements, we recognize revenue using the milestone method. Under the milestone method, a payment that is contingent upon the achievement of a substantive milestone is recognized in its entirety in the period in which the milestone is achieved. A milestone is an event (i) that can be achieved based in whole or in part on either our performance or on the occurrence of a specific outcome resulting from our performance, (ii) for which there is substantive uncertainty at the date the arrangement is entered into that the event will be achieved and (iii) that would result in additional payments being due to us. The determination that a milestone is substantive is judgmental and is made at the inception of the arrangement. Milestones are considered substantive when the consideration earned from the achievement of the milestone is (i) commensurate with either our performance to achieve the milestone or the enhancement of value of the item delivered as a result of a specific outcome resulting from our performance to achieve the milestone, (ii) relates solely to past performance and (iii) is reasonable relative to all deliverables and payment terms in the arrangement. In making the determination as to whether a milestone is substantive or not, we consider all facts and circumstances relevant to the arrangement, including factors such as the scientific, regulatory, commercial and other risks that must be overcome to achieve the respective milestone, the level of effort and investment required to achieve the respective milestone and whether any portion of the milestone consideration is related to future performance or deliverables.

25

Table of Contents

Other contingent payments received for which payment is either contingent solely upon the passage of time or the results of a collaboration partner’s performance (bonus payments) are not accounted for using the milestone method. Such bonus payments will be recognized as revenue when earned and when collectibility is reasonably assured.

Royalties based on reported sales of licensed products will be recognized based on contract terms when reported sales are reliably measurable and collectibility is reasonably assured. To date, none of our products have been approved and therefore we have not earned any royalty revenue from product sales.

Preclinical Study and Clinical Trial Accruals and Deferred Advance Payments

We estimate preclinical study and clinical trial expenses based on the services performed pursuant to contracts with research institutions and clinical research organizations that conduct these activities on our behalf. In recording service fees, we estimate the time period over which the related services will be performed and compare the level of effort expended through the end of each period to the cumulative expenses recorded and payments made for such services and, as appropriate, accrue additional service fees or defer any non-refundable advance payments until the related services are performed. If the actual timing of the performance of services or the level of effort varies from our estimate, we will adjust our accrual or deferred advance payment accordingly. If we underestimate or overestimate the level of services performed or the costs of these services, our actual expenses could differ from our estimates. To date, we have not experienced significant changes in our estimates of preclinical study and clinical trial accruals.

Stock-Based Compensation

Employee stock-based compensation cost is measured at the grant date, based on the fair value of the award, and is recognized as an expense over the employee’s requisite service period (generally the vesting period). Stock option awards granted to our nonemployee directors for their board-related services are included in employee stock-based compensation in accordance with current accounting standards. We use the Black-Scholes option-pricing model to estimate the fair value of our stock-based awards and use the straight-line (single-option) method for expense attribution. We estimate forfeitures and recognize expense only for those shares expected to vest.

We account for equity instruments issued to nonemployees based on their fair values on the measurement dates using the Black-Scholes option-pricing model. The fair values of the options granted to nonemployees are remeasured as they vest. As a result, the noncash charge to operations for nonemployee options with vesting is affected each reporting period by changes in the fair value of our common stock.

We recorded noncash stock-based compensation for employee and nonemployee stock option grants and ESPP stock purchase rights of $1.3 million and $0.9 million for the three months ended June 30, 2013 and 2012, respectively and $2.0 million and $1.9 million for the six months ended June 30, 2013 and 2012, respectively. As of June 30, 2013, we had outstanding options to purchase 5,056,549 shares of our common stock and had $9.4 million of unrecognized stock-based compensation expense, net of estimated forfeitures, related to outstanding stock options and $0.1 million related to ESPP stock purchase rights that will be recognized over weighted-average periods of 2.5 and 0.6 years, respectively. There were 52,439 common shares purchased under the ESPP for the six months ended June 30, 2013. No shares were purchased under the ESPP for the three months ended June 30, 2013. We expect to continue to grant stock options and ESPP stock purchase rights in the future, which will increase our stock-based compensation expense in future periods. If any of the assumptions used in the Black-Scholes model change significantly, stock-based compensation expense may differ materially in the future from that recorded in the current period.

Recent Accounting Pronouncements

In February 2013, a new accounting standard was issued that amended existing guidance to improve the reporting of reclassifications out of accumulated other comprehensive income. The new standard requires the disclosure of significant amounts reclassified from each component of accumulated other comprehensive income and the income statement line items affected by the reclassification. The standard is effective prospectively for interim and annual periods beginning after December 15, 2012. We adopted this guidance as of January 1, 2013 and its adoption did not have an effect on our financial statements.

In July 2013, a new accounting standard was issued that requires the netting of unrecognized tax benefits against a deferred tax asset for a net operating loss or other carryforward that would apply in settlement of the uncertain tax positions. Under the new standard, unrecognized tax benefits will be netted against all available same-jurisdiction net operating loss or other tax carryforwards that would be utilized, rather than only against carryforwards that are created by the unrecognized tax benefits. We have not evaluated the impact of the new standard on the condensed financial statements.

26

Table of Contents

Results of Operations

Comparison of the Three and Six Months Ended June 30, 2013 and 2012

(1)                     Includes the following stock-based compensation expenses:

Comparison of the Three Months Ended June 30, 2013 and 2012

Contract revenue. For the three months ended June 30, 2013, we recognized $1.3 million for research services performed under the Gates Foundation agreement, $0.1 million of which related to $0.8 million of reimbursements for services performed prior to the effective date of the agreement. We also recognized $0.7 million for research funding and $0.2 million of the $3.5 million upfront fee received under our collaboration with Lilly, $0.3 million primarily for research funding under our collaboration agreement with GSK and $0.9 million for research work performed under our agreements with not-for-profit organizations for neglected diseases. For the three months ended June 30, 2012, we recognized $0.8 million for research funding and $0.2 million of the $3.5 million upfront fee received under the Lilly agreement, $0.4 million primarily for research funding under our collaboration with GSK and $0.9 million for research work performed under research and development agreements, including under agreements with not-for-profit organizations for neglected diseases. During the three month period ending June 30, 2012, we also recognized $0.3 million of the $7.0 million upfront fee received under the Medicis agreement.

Research and development expenses. Research and development expenses consist primarily of costs associated with research activities, as well as costs associated with our product development efforts, including preclinical studies and clinical trials. Research and development expenses, including those paid to third parties, are recognized as incurred. Research and development expenses include:

·                  external research and development expenses incurred pursuant to agreements with third-party manufacturing organizations, contract research organizations and investigational sites;

·                  employee and consultant-related expenses, which include salaries, benefits, stock-based compensation and consulting fees;

·                  third-party supplier expenses; and

·                  facilities, depreciation and other allocated expenses, which include direct and allocated expenses for rent and maintenance of facilities, amortization or depreciation of leasehold improvements, equipment and laboratory supplies and other expenses.

27

Table of Contents

Research and development expenses decreased by $4.0 million in the three months ended June 30, 2013 as compared to the same period in the prior year. Although expenses for our tavaborole and AN2728 programs decreased by $2.9 million and $1.1 million, respectively, these decreases were partially offset by an increase of $1.3 million in research expenses under our new research agreement with the Gates Foundation. As our tavaborole Phase 3 and cardiac safety clinical trials were completed in 2013, our second quarter 2013 costs for this program were lower than they were for the same period in 2012, when we were actively conducting two fully-enrolled Phase 3 trials, initiating the cardiac safety trial and planning for a repeat insult patch test (RIPT) study. This decrease in clinical trial costs for our tavaborole program was partially offset by an increase in costs for consulting services and for our internal efforts, both related to preparations for the filing of our NDA for tavaborole in July 2013. Our total expenses for AN2728 were lower for the second quarter of 2013 compared to the same period in 2012 primarily from decreases in costs related to preclinical studies, clinical trials and internal efforts for the current period. In the second quarter of 2013, we were completing our Phase 2 dose-ranging trial and conducting start up activities for our Phase 1 absorption trial and cardiac safety trial, performing initial manufacturing and regulatory activities in preparation for our Phase 3 clinical trials and performing long-term preclinical studies. In the second quarter of 2012, we were planning our Phase 2 clinical trials, manufacturing supplies for these trials and conducting more extensive preclinical studies.

Due to the legal proceedings related to our Medicis collaboration, we have suspended our research and development efforts and, as a result, we had no expenses under this collaboration in the second quarter of 2013 compared to $0.4 million in the same period in 2012. For the second quarter of 2013, our research and development spending also decreased by $0.8 million under our collaborations with Lilly and GSK and for other research activities, including our neglected diseases programs, when compared to the same period in 2012.

We expect our quarterly research and development expenses for the remainder of 2013 to be comparable to those for the second quarter of 2013, as the decline in clinical trial costs upon completion of our Phase 3 trials for tavaborole is expected to be offset by increased development and clinical costs for AN2728, continued spending under our collaborations with GSK and Lilly and for our neglected diseases initiatives, and increased spending under our research agreement with the Gates Foundation.

General and administrative expenses. General and administrative expenses consist primarily of salaries and related costs for our personnel, including stock-based compensation and travel expenses, in executive, finance, business development and other administrative functions and professional fees for legal services, including patent-related services, and auditing and tax services. Other general and administrative expenses include facility-related costs not otherwise included in research and development expenses and  consulting fees associated with financial, business development and marketing-related services.

The increase in general and administrative expenses in the second quarter of 2013 compared to the same period in 2012 was primarily due to an increase in legal fees, which resulted from the legal proceedings for our disputes with Valeant and Medicis. We expect that general and administrative expenses will increase in the future due to additional professional fees related to our legal proceedings, increased marketing activities for tavaborole and the hiring of additional staff.

Interest income. The decrease in interest income for the second quarter of 2013 compared to the same period in 2012 was primarily due to a reduction in average investment balances partially offset by higher yields.

Interest expense and loss on early extinguishment of debt. Interest expense increased for the three months ending June 30, 2013 compared to the same period in 2012 due to the higher outstanding balance on our debt, which was only partially offset by a lower effective interest rate. Upon the early extinguishment of our debt with Oxford and Horizon in June 2013, we incurred a loss of $1.4 million, which consisted of the unaccrued balance of the final payment, the unamortized balances of the debt discount and deferred issuance costs and a prepayment penalty.

Other expense. The increase in other expense in the second quarter of 2013 compared to the same period in 2012 was a result of the deferred financing fees relating to our debt.

Comparison of the Six Months Ended June 30, 2013 and 2012

Contract revenue. For the six months ended June 30, 2013, we recognized $1.3 million for research services performed under our research agreement with the Gates Foundation, $0.1 million of which related to $0.8 million of reimbursements for services performed prior to the effective date of the agreement, and $0.7 million primarily for research funding under our collaboration agreement with GSK. We also recognized $1.1 million for research work performed under research and development agreements with not-for-profit organizations for neglected diseases. During each of the six month periods ending June 30, 2013 and 2012, we recognized $1.6 million for research funding and $0.4 million of the $3.5 million upfront fee received under the Lilly agreement. For the six months ended June 30, 2012, we recognized $0.8 million primarily for research funding under our collaboration agreement with GSK and $1.6 million for research work performed under research and development agreements, including our agreements with not-for-profit organizations for neglected diseases. We also recognized $0.6 million of the $7.0 million upfront fee received under the Medicis agreement during the six months ended June 30, 2012.

28

Table of Contents

Research and development expenses. Research and development expenses decreased by $5.5 million for the six months ended June 30, 2013 as compared with the same period in the prior year, primarily due to decreases in costs for our tavaborole and AN2728 programs of $3.6 million and $1.1 million, respectively. As our tavaborole Phase 3 clinical trials were completed in 2013, our costs for the six months ending June 30, 2013 were lower than in the comparable period in 2012 when we were actively conducting our Phase 3 clinical trials and a cardiac safety trial. Partially offsetting the decrease in clinical trial costs were increased costs for consulting and internal efforts as we prepared for our NDA filing for tavaborole in July 2013. The $1.1 million decrease in AN2728 costs occurred mainly because our drug development activities for this product candidate were less extensive during the first six months of 2013 than they were for the same period in 2012. In the first six months of 2013, our drug development efforts were limited to continuation of some preclinical studies initiated in the prior year and manufacturing activities in preparation for our Phase 3 trial and certain regulatory requirements, whereas in the same period in 2012, we were conducting multiple preclinical safety studies for AN2728 as well as manufacturing drug supplies for both our preclinical studies and our planned clinical trials. Partially offsetting the expense declines for drug development were increased clinical trial costs for the six months ended June 30, 2013 compared to the same period in 2012. These clinical costs increased because in the six months ended June 30, 2013, we were actively conducting our Phase 2 dose-ranging trial, completing our Phase 2 safety trial, preparing to initiate our MUSE study and planning for our cardiac safety trials while, during the same period in 2012, our AN2728 clinical activities were limited to planning for our Phase 2 clinical trials.

During the first six months of 2013 as compared to the same period in 2012, our research and development expenses increased by $2.0 million for research activities under our new research agreement with the Gates Foundation and $0.1 million for research and development spending under our collaboration with Lilly. These increases were offset by a $1.8 million decrease in expenses due to the suspension of our research and development activities relating to our Medicis collaboration, a $0.2 million decrease in research expenses under our collaboration with GSK and a $0.9 million decrease from our other research activities, including our neglected diseases programs.

General and administrative expenses. The increase in general and administrative expenses of $3.7 million in the first six months of 2013 compared to the same period in 2012 was primarily due to increases in legal fees relating to our legal proceedings with Valeant and Medicis.

Interest income. The decrease in interest income for the six months ended June 30, 2013 compared to the same period in 2012 was due to a reduction in average investment balances and lower yields.

Interest expense and loss on early extinguishment of debt. Interest expense increased for the first six months of 2013 compared to the same period in 2012 due to the higher outstanding balance of our debt, which was only partially offset by a lower effective interest rate. Upon the early extinguishment of our debt with Oxford and Horizon in June 2013, we incurred a loss of $1.4 million, which consisted of the unaccrued balance of the final payment, the unamortized balances of the debt discount and deferred issuance costs and a prepayment penalty

Other expense. Deferred financing fees relating to our debt remained the same for the six months ended June 30, 2013 compared to the same period in 2012.

Liquidity and Capital Resources

Since our inception, we have financed our operations primarily through our initial public offering, or IPO, in November 2010, common stock offerings, private placements of equity securities, funding from our agreements with Schering, GSK, Lilly, Medicis, the Gates Foundation and organizations that fund neglected diseases research, government contract and grant funding and debt arrangements. We have also earned interest on our cash, cash equivalents and short-term investments. At June 30, 2013, we had cash, cash equivalents, short-term investments and restricted investments of $51.1 million, including $5.3 million of restricted investments.

The following table sets forth the primary sources and uses of cash for each of the periods presented below (in thousands):

Net cash used in operating activities was $24.0 million and $28.5 million for the six months ended June 30, 2013 and 2012, respectively. The net cash used in operating activities for both periods primarily reflected our net loss adjusted for noncash items, partially offset by changes in operating assets and liabilities.

29

Table of Contents

Net cash used in investing activities was $8.7 million for the six months ended June 30, 2013 compared to $1.0 million during the six months ended June 30, 2012. The activities for both periods were primarily related to the purchases of investments and property and equipment, net of the proceeds from the maturities of investments.  In addition, for the six months ended June 30, 2013, we transferred $5.1 million related to the redeemable common stock proceeds and the research funding received from the Gates Foundation to restricted investments as a result of restrictions placed on the use of such funds pursuant to our Gates Foundation agreement.

Net cash provided by financing activities was $29.7 million for the six months ended June 30, 2013 compared with $19.3 million for the same period in the prior year. The net cash provided by financing activities for the first six months of 2013 was primarily due to the net proceeds of $21.3 million from the sale of our common stock in May 2013 and the net proceeds of $1.3 million from the sale of common stock related to our “at-the-money” common stock offering in the first quarter of 2013. In addition, cash was provided from the $30.0 million drawdown of the first tranche under our new debt facility with Hercules, offset by the $28.2 million paid for the regularly scheduled principal payments and remaining obligations under the Oxford and Horizon debt facility and for the financing fees, debt issuance costs and loan fees associated with the new Hercules debt. In connection with the research agreement with the Gates Foundation, we also issued shares of redeemable common stock for net proceeds of $5.0 million. The cash provided by financing activities in the first six months of 2012 was primarily due to net proceeds of $19.9 million from the sale of our common stock in February 2012, offset by $0.9 million in scheduled principal payments for our Oxford and Horizon debt.

Our independent registered public accounting firm has included in their audit opinion for the year ended December 31, 2012 a statement with respect to our ability to continue as a going concern. However, our financial statements have been prepared assuming we will continue to operate as a going concern, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business.

We believe that our existing capital resources, including the remaining $15.0 million of borrowing capacity under our expanded debt facility with Hercules, will be sufficient to meet our anticipated operating requirements until mid-2014. However, our forecast of the period of time through which our financial resources will be adequate to support our operations is a forward-looking statement that involves risks and uncertainties, and actual results could vary materially.

Our future capital requirements are difficult to forecast and will depend on many factors, including:

·                  the initiation, progress, timing, costs and results of preclinical studies and clinical trials for our product candidates and potential product candidates, including our ongoing and/or planned trials for AN2728;

·                  the success of our collaborations with GSK, Lilly, Medicis and the Gates Foundation and the attainment of contingent event-based payments and royalties, if any, under those agreements;

·                  the number and characteristics of product candidates that we pursue;

·                  the terms and timing of any future collaboration, licensing or other arrangements that we may establish;

·                  the outcome, timing and cost of regulatory approvals;

·                  the cost of filing, prosecuting, defending and enforcing any patent claims and other intellectual property rights;